AMERICAN DISTANCE EDUCATION CONSORTIUM

What Can be Learned?

Are there any lessons we can take from the 14 notable failures of the January Barometer described above?

Six of the examples (1902, 1903, 1917, 1930, 1931, 2001) involve false January rallies that developed in the early stages of bear markets. Clearly, we don’t fit into this category. The bear market following the late 1990s tech-stock mania bottomed on October 9, 2002. Our market attained its subsequent high-to-date just last month.

Could we have already seen the final top, or might the entire advance since 2002 represent nothing more than an elongated bear market rally? The latter possibility would be essentially unheard of, given the amount of time elapsed since the low. Nevertheless, bull markets have been known to expire in a shorter time than the 3 years and 3 months required to trudge to the January 11, 2006 closing highs in the DJIA and S&P.

Almost half of all previous misleadingly bullish Januarys came late in long or powerful bull markets, during the years (1906, 1929, 1934, 1937, 1946, 1966) of their final tops. The latter 3 such cases, like our present situation, all unfolded following “second-year lows,” but served up lengthier and more energetic advances than the 2002-06 bull market so far. The 2-month, 12% bounce in the S&P from its low last October 13 would represent an uncharacteristically brief and anemic concluding bull leg, especially anticlimactic on the heels of a flat year. Unlike 1946, 1965-66 and 1994, we haven’t seen a 10% market decline in some time. The largest correction the market could muster in 2005 was on the order of 7%. The less-than-stellar 52% maximum improvement in the closing price of the Dow since its October 9, 2002 trough is also tepid by bull market standards. As in 1942-46, the S&P is ahead of the DJIA, and broader indexes have crushed both blue-chip measures, but the S&P’s reluctance thus far to challenge its all-time high, unlike the Dow after it was similarly cut in half 100 years ago, further attests to the underachieving nature of the existing bull.

• Still, this bull market is undeniably long in the tooth, and enough time remains in 2006 to set up a final top and then possibly stage a decline big enough to make a liar of The January Barometer for a 4th time in 6 years.
• Should you fire your financial advisor and hire a month in order to optimize your asset allocation?
• Probably so, if you believe proponents of a time-honored indicator of future stock market performance known as “The January Barometer.” The Barometer simply states that “As goes January, so goes the year,” and it’s racked up a seemingly remarkable forecasting record since well before Yale Hirsch of Stock Trader’s Almanac first popularized it as early as 1972.
• Since 1938, the direction of change of the benchmark S&P in the first month out of the gate has matched the year as a whole more than a whopping 80% of the time, making January by far the most predictive month on the calendar. The results are similarly impressive if you use the Dow Jones Industrial Average (DJIA) as a yardstick and, although it somewhat diminishes the accuracy of the forecasting tool, if you assess efficacy over the next 11 or 12 months to avoid double-counting January’s moves in the periods it’s supposed to foreshadow. Dating back to the inception of the NASDAQ Composite Index in 1971, January achieves the greatest success of any month in anticipating the movement of OTC stocks throughout the following 11 or 12 months, and ranks second only to April in its correlation with calendar-year outcomes. Starting from 1950, an up January has meant about a 13% gain in stock prices through the remainder of the year, while opening with a down month presaged about a 1% loss.

Criticisms of The January Barometer.

• The historical evidence looked even more compelling at the start of this decade, but The January Barometer laid an egg in 3 of the past 5 years. In 2001, a positive January called a premature end to a bear market that got ugly after Al Qaeda suicide hijackers attacked the World Trade Center and Pentagon. In 2003, stocks declined in January, continuing a deep correction in the wake of a sharp initial rally off the final bear market low of the previous October, but turned higher in springtime to climb 26.4% by year-end, still the biggest annual gain since the 1990s. Last year, the market fell again in January, only to see the S&P 500 eke out a 3% gain for all of 2005, although the Dow edged down a fraction of a percent. However, the lackluster display by the blue chips actually understated the effect of the Barometer’s error in a year in which smaller stocks outperformed for a 6th straight time and the average equities mutual fund returned a total 9.5%.

Supporters of The January Barometer sometimes point to the 20th Amendment, a piece of Depression-era legislation also known as the “Lame Duck Amendment,” to explain why it works. The 20th Amendment mandates that presidential terms, as well as those of senators and representatives, shall conclude in January, and calls for congress to convene on January 3. Formerly, they didn’t throw the rascals out until March. Despite ratification in early 1933, the amendment didn’t take effect until 1934. Hence the nation was forced to endure 4 months of lame-duck leadership from a by then wildly unpopular Herbert Hoover after the 1932 election, as the Great Depression deepened and Wall Street surrendered the vast bulk of its spectacular gains achieved during the summer of ’32, following the stock market bottom.